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Options for Energy Bill Reform

Authors: Rachel Wolf, Jonathan Dupont and Ruth Newton

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Table of Contents

Executive Summary 4

The Challenge - Introduction 8

The Purpose of this Paper 13

The UK’s Comparative Position 15

Germany 19

France 20

The Netherlands 22

Model and Options for Government 24

Appendix A: Core Assumptions 35

Appendix B: Sensitivity Checks 37

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Executive SummaryPolicy change is needed to meet the UK’s targets on heat pumps, which are a stated part ofthe government’s plan to decarbonise heat. Decarbonising and electrifying residential heatis crucial if the UK is to achieve its Net Zero targets. At present, however, many policy costs -such as Feed-In Tariffs, Renewable Obligation Certificates and Contracts for Difference - areimposed on electricity bills but not on gas, penalising those who do invest in cleaner options.Far from putting a price on pollution, we are actively encouraging the use of fossil fuels.

Unless policy changes, UK households that opt for an air source heat pump will be paying£305 more a year in 2030 in energy bills than those with a gas boiler.

The UK lags behind its international comparators on decarbonised heating, heat pumppurchases and trajectory. A number of countries offer high incentives for decarbonisedheating as part of their drive towards net zero. They have also introduced, or are introducing,more balanced costs between electricity and gas:

● Germany has 2.6 times the number of heat pump sales per capita as the UK. Germanyhas higher renewable policy costs on electricity than the UK, but has recentlyintroduced a carbon charge on gas which will reach £55/tCO2e by 2025. Their stimuluspackage last year included reductions on the electricity renewable levy.

● France has ten times the number of sales per capita as the UK. It has lower renewablepolicy costs on electricity than the UK, and also levies an additional carbon chargeacross fossil fuels, including gas.

● The Netherlands has 4.7 times the sales per capita as the UK. It has placedconsiderable policy costs on gas: it has the highest costs on gas, once taxes areadded, in the EU1.

It is worth noting that the numbers in these countries - while much higher than the UK’s - arestill well below the government’s targets.

1 BEIS, Domestic gas prices in the EU for medium consumers, including environmental taxes and levies, Dec 2020

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There are a number of ways the UK could rebalance costs between gas and electricity.Public First modelled scenarios for the running costs of residential heating against four aims:

1. Reversing the disincentive on electrified heating;

2. Maintaining affordability of heating for average households across the country;

3. Not substantially increasing costs for the fuel poor; and

4. Not putting an undue burden on government expenditure.

Our scenarios are summarised below.

Scenario Renewable subsidies2 Carbon taxation

Baseline No change No change

1 Move from electricity bills togeneral governmentexpenditure

Current charges only (andtherefore on electricity, notgas)

2 A higher carbon tax of £54rising to £75/tCO2eapplied equally toelectricity and gas,consistent withindependentrecommendations.3

3 Spread equally betweengas and electricity

3 http://zerocarbonreport.com/

2 In the case of renewable support costs (RO, FiT, CfD) we have assumed for simplicity that any change applies to theentirety of renewable support costs. An alternative policy choice would be to move only the legacy component of thecosts, rather than new costs. As legacy costs account for the majority of renewable costs to date, however, thiswould not significantly change the modelling results.

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4 Move onto gas alone Current charges only4

In the case of changes to carbon tax and renewable support, we have quantified the impacton government income and expenditure of changes to domestic arrangements. This paperdoes not consider the merit or impact of making equivalent changes to the non-domesticmarket.

In all scenarios (other than the baseline) we moved efficiency costs – the Energy CompanyObligation5 – from both electricity and gas bills onto gas bills alone, as these are more closelylinked to heating. We have also assumed in all scenarios that current carbon prices – in theform of ETS and CPS costs – would either remain on electricity or be replaced by a highercarbon price.

We have summarised the impact below. When looking at fuel poor consumers we haveestimated the cost for gas users. Clearly if they switch to electricity, they would see asubstantial saving - and many will be using electrical storage heaters already.

Incentive to take up heat pumps in2030

Fuel bills in 2030 compared withbaseline

Government revenue andspending in 2030 compared

with baseline

1. Policy costs ontogovernmentexpenditure

The running cost of heat pumps isnear equalised to gas boilers by2030.

The average fuel bill would decreaseby £168 (-12%) per year by £178 a yearfor the fuel poor

This would have a significantimpact, increasing governmentnet spending by £5.7 bn

5 Given the Warm Home Discount’s position as a consumer protection, and given that its inclusion or exclusion in themodelling doesn’t change the overall position of the scenarios, we chose not to move this in our scenarios.

4 We also modelled spreading between gas and electricity without a carbon price, which did find heat pumps wouldremain more expensive in 2030, even once energy efficiency costs were transferred and that dual fuel bills wouldincrease for the average consumer and the fuel poor. However 100% movement of policy costs onto gas does makeheat pumps less expensive to run.

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2. Policy costs ontogovernmentexpenditure and anincreased carbontax on electricityand gas

Heat pumps become £159 a yearcheaper to run than a gas boiler

Costs would increase slightly - by £38(+3%) a year for the mean consumersand £40 for the fuel poor

Government net spendingincreases by £0.2 billion.

3. Policy costs evenbetween electricityand gas, with anadditional carbontax on electricityand gas

Heat pumps become £154 a yearcheaper to run than a gas boiler

Dual fuel bills substantially increase –by £234 a year (+17%) by 2030 for theaverage consumer and £248 for thefuel poor

Government net revenueincreases by £5.5 billion.

4. All policy costsonto gas.

Heat pumps become £200 a yearcheaper to run than a gas boiler

Increases overall bill by £70 (+5%) ayear for the average consumer and£65 a year for the fuel poor

Government revenueunchanged.

Our view is that scenario 2 - which moves the policy costs onto government expenditureand then introduces a carbon tax - is the best balance in terms of incentivising heatdecarbonisation; properly pricing emissions on gas; not penalising the fuel poor or theaverage consumer; and limiting impact to the Treasury. Regardless of the scenario thegovernment chooses, it is clearly essential that the government shields the poorest fromsubstantive rises on their energy bills.

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The Challenge - IntroductionWe will aim for 600,000 heat pump installations per year by 2028, creating a market led incentive

framework to drive growth, and will bring forward regulations to support this especially in off gas grid

properties. This ambition still leaves open the choice as to whether we ultimately pursue hydrogen

heating, an electrified heating system, or a mixture of both, whilst we continue to pilot the options.

- The Ten Point Plan for a Green Industrial Revolution, 20206

Without changes to policy costs on both electricity and gas, there is a far higher chance thatthe government will not meet its heat pump target and we will fail to decarbonise heating inthe UK.

As is widely recognised, heating is one of the most important sectors in the next few decadesto decarbonise. 21% of UK emissions come from non-industrial heating, the majority of which isdomestic. Today, UK households are extremely reliant on gas, with just 2% using heat networks.UK households install more than 1.6 million new boilers per year, and just 30,000 electricitypowered heat pumps.

6https://www.gov.uk/government/publications/the-ten-point-plan-for-a-green-industrial-revolution/

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This year has seen, for understandable reasons, problems with the delivery of homedecarbonisation.

We need to avoid the same situation, longer-term, for heat pumps, which remain animportant part of the government’s drive to hit net zero by 2050. Yet today, leaving asidehigher capital costs of heat pumps, it remains cheaper for a household to stick to gas.

One reason for this is that, at present, many policy costs are imposed on electricity bills but notgas. The cost of subsidies for renewable energy such as Feed-In Tariffs, Renewable ObligationCertificates and Contracts for Difference are currently charged to electricity bills, but not gas.According to Ofgem, around 23% of the costs of the average residential energy bill areaccounted for by policy costs, compared to less than 2% of the costs of residential gas.7

7 https://www.ofgem.gov.uk/publications-and-updates/infographic-bills-prices-and-profits

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Without policy changes, we will continue to implicitly penalise households that switch toelectric powered heat pumps - despite these being far better for the environment.

As the chart below shows, in 2022 a household with mean consumption with a gas boilerwould spend £405 less a year than the equivalent household with a heat pump - and that isonly taking into account running costs. By 2030, the gap is still an estimated £305 per year8.

8 BEIS assumptions include a reduction in electricity costs, regardless of policy changes, by 2030, and some smallincrease in gas costs.

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Making decarbonised heating work for consumers

There are three current challenges with heat pumps, all of which need to be tackled:

● They are expensive to buy. Upfront capital costs remain high and there arehighly variable estimates by companies about how rapidly they will comedown, especially on the technology. Many of the companies that funded thispaper are optimistic about savings to be made as the market develops,particularly through reduction of friction costs and availability of installers.

● There are consumer concerns about disruption and associated costs. We knowthat heat pumps face several behavioural barriers. Other research shows thatpeople continue to have concerns about their size and the requirements forinstallation, potential noise, and the need to change radiators in their home.That makes it even more important that the benefits – in the form of lowerprices – are clear9.

Neither of the above are the subject of this paper but tackling them has to be part ofan overarching policy response.

9 For example see DGA, Getting Net Zero Done, May 2020.

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They are too expensive to run compared with alternatives (particularly gas boilers).This is the core subject of this paper.

Unless policy costs are dealt with, and the running costs of heat pumps are addressed,reducing capital costs is insufficient to transform take-up.

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The Purpose of this PaperThis paper presents policy options that would allow the government to remove the runningcost disincentive on electrified heating, while still achieving three other core aims:

1. Maintain affordability of heating for average households across the country;

2. Not substantially increase costs for the fuel poor; and

3. Not put an undue fiscal burden on the government finances.

The paper is focused on residential households, and particularly mean and medianhouseholds, and those in fuel poverty. While the modelling did not address business costs, theprofile for SMEs – whose primary fuel costs come from heating buildings – is likely to berelatively similar (though with larger bills).

The modelling was undertaken by Public First in March 2021, with support from:● OVO Energy;● E.ON;● EDF Energy;● ScottishPower; and● Centrica.

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Policy costs

By policy costs, we are referring to decisions made by the government to placeadditional costs on energy bills in order to achieve policy aims (chieflydecarbonisation of the power sector and energy efficiency). These are summarisedbelow:

a. Efficiencyi. Energy Company Obligation (ECO)ii. Smart meter roll-out

b. Carbon tax:i. EU ETS costs (EU ETS);ii. The additional Carbon Price Support cost (CPS)

c. Renewable costs:i. Renewable Obligation Certificates (ROCs)ii. Feed-In Tariffs (FITs)iii. Contracts for Difference (CfDs)

d. Other:i. Warm Homes Discount (WHD)

We have not modelled the Renewable Heat Incentive (RHI) or the Clean Heat Grantand focused solely on running costs.

As we write this, the only policy costs levied on domestic gas are much smaller andprimarily for energy efficiency and provision of the Warm Homes Discount. (theincoming green gas levy is not included in our modelling and is also relatively small).

Our central argument is that these policy costs are necessary to achievedecarbonisation, but should not be placed solely on domestic electricity rather thangas when so much of the government’s plans are – rightly - to encourage the updateof electric heating.

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The UK’s comparative positionPrices

The UK places high relative costs on electricity but low relative costs on gas, as the chartbelow shows.

(BEIS Energy Prices, International Comparisons, Dec 2020)

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The UK’s differential price (the cost of electricity compared with gas, once taxes and leviesare included) is also relatively high by European standards.

(BEIS Energy Prices, International Comparisons, Dec 2020)

At the same time, the UK has lagged very significantly behind its counterparts in heat pumpuse and purchase.

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(latest EHPA data-2018)

To reverse the trend, policy will need to change. Below, we outline some examples ofcomparator countries and their approaches to heat pump incentivisation and running costs.We have not focused on the Nordic countries, since both their policy environment and sourceof energy is so markedly different. Instead, we have selected:

● France which is one of the top 3 heat pump markets in Europe, and has a relatively lowdifferential price between electricity and gas;

● Germany, a top ten market for heat pumps, has very expensive electricity with highlevies, but has instituted a number of major recent policy changes to increase therelative price of gas; and

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● The Netherlands, which has been cited in a number of recent case studies for heatpump introduction, and which has relatively high gas prices.

All three have higher market share of heat pumps in absolute terms, as well as per capita,than the UK. However, all three have also seen more success in new builds than in existingproperties, and both Germany and France are instituting new policies to increase take up.

We summarise the differences between these countries and the UK below, and then describethem in more detail.

Country Renewablelevy rate(pkWh)

Price differential(electricity-gas)

(pkWh) after taxesincluded

Costs on gas Upfront incentives forheat pumps

Regulation on heatpumps

UK 3.1 15.1 Ofgem estimates thatpolicy costs make up1.9% of average gasbill.

Germany 5.5 21.4 (this is likely toreduce as the newgas carbon taxcomes into effect)

A new carbon tax at£25/tCO2e rising to£55/tCO2e in 2025

Up to 35% of the costof a heat pump up to€30, 000 (or up to 45%where the heat pumpis replacing anoil-based system).20% of retrofittingcosts are taxdeductible up to€40,000.30% of the cost ofreplacing heat pumpswith more efficientmodels is funded

New buildings arerequired to userenewable energy forat least some of theirheating, with strictstandards highlyincentivising the useof heat pumps.

France 2 9.7 Carbon tax at£38/tCO2e

Up to €20, 000 overfive years.Eco loan offers 0%interest for up to €30,000.

Regulation limitsenergy consumptionin new builds, but thisis less strong than inother countries.

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Netherlands 0.9 3.8 Dutch renewablecosts are levied ongas. They alsoprovide a fixed lumpsum relief of €461.62for electricity bills.

A subsidy (ISDEgrant) is available forheat pumps. Thesubsidy variessubstantially but istypically 20% of thecost.

The main regulatorylever has been on newbuilds which ban gasconnections – morethan 50% of newbuilds use heatpumps. The Dutchgovernment also hasoverall stringenttargets to reduce gasuse.

We have not discussed the Renewable Heat Incentive in this comparator table or the rest ofthe paper because it will cease to be in use, and there is no certainty about anyreplacement.

Germany

Most of Germany’s historic growth of heat pumps has been driven by new builds – in 2018renewable energy overtook gas as the primary source of heating in new builds for the firsttime10. Germany very recently introduced a new carbon tax on gas which will reach to£55/tCO2e alongside a bigger incentive package for existing homes.

Policy costs

● Germany runs an auction based mechanism under their renewable energy law(Erneuerbare-Energien Gesetz, EEG)11. Germany’s EEG surcharge accounts for around20% of consumer power bills, and in 2021 is at c. 5.5p/kWH compared with 3.1p/kwHin the UK rising to 4.3p/kwH (x3) in 20301213.

13 https://www.e-wie-einfach.de/faq/faqs/was-ist-die-eeg-umlage andhttps://www.verivox.de/strom/themen/eeg-umlage

12 https://www.cleanenergywire.org/glossary/letter_e#eeg_surcharge andhttps://www.bundesnetzagentur.de/SharedDocs/A_Z/E/EEG_Umlage.htm

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https://www.unendlich-viel-energie.de/themen/politik/foerderung2#:~:text=Der%20Ausbau%20Erneuerbarer%20Energien%20ist%20politischer%20und%20gesellschaftlicher%20Konsens.&text=Erneuerbare%20W%C3%A4rme%20wird%20auf%20Bundesebene,oder%20Hackschnitzelheizungen%20finanziell%20unterst%C3%BCtzt%20wird

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https://www.cleanenergywire.org/factsheets/heating-40-million-homes-hurdles-phasing-out-fossil-fuels-german-basements

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● However unlike the UK, Germany has no additional carbon price on electricity otherthan the ETS price (the UK has an additional £18/tCO2e).

● Germany has also recently announced an increasing carbon price on gas, at£25/tCO2e rising to £55/tCO2e in 202514.

● €11 billion was invested last year as part of a Covid-19 stimulus package in order tokeep the renewable levy from rising by 40% in 2021 to a forecasted 9.651 cents perkWh, keeping it at 6.5 cents per kWh instead.

Upfront incentives

● Germany has a Market Incentive Programme (MAP) which has allocated over €400million a year. Homes can get up to 35% of the cost of a heat pump (40% if replacingan oil-based system) for a total maximum of €30,000.

● In addition, 20% of spending on retrofitting is tax deductible up to €40,000, and 30%of the cost of replacing heat pumps with more efficient models is funded.

Regulation

● New buildings are required to use renewable energy for at least some of theirheating under the Renewable Energies Heat Act. There are also strict standardswhich are very hard for heating systems using fossil fuels to meet15.

● Energiewende and Energy Efficiency Ordinance in the buildings sector havestringent targets for energy efficiency16.

The German Heat Pump Association (IWP) and funded information campaigns have alsosupported take up.

France

France’s high heat pump rate of take-up (at 120k pa) is supported by a much lowerdifferential between gas and electricity costs than other comparator countries, which inturn is because of carbon taxation on gas and lower renewable levies on electricity. There

16 Vivid Economics for BEIS, International Comparisons of Heating, Cooling and Heat Decarbonisation Policies,November 2017

15 https://www.sunwindenergy.com/new-buildings-germany-now-required-to-use-renewable-energy-heating

14 https://www.thelocal.de/20210101/germany-rings-in-2021-with-co2-tax-coal-phase-out/

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have also been a range of substantial up front incentives to support heat pump take up.These have recently been increased as part of a Covid-19 stimulus package.

Policy costs

● A CSPE tax is levied on electricity bills at a rate of c.2p/kwH (i.e. substantially belowGerman and UK levels). This level hasn’t changed since 201617. Traditionally, thisfunded renewable energy – however it is paid into the general state budget ofFrance and is not hypothecated. It has also traditionally funded some fuel povertymeasures.

● In addition, France has a carbon tax, including on gas, that is set (and has alsobeen frozen for several years) at £38/tCO2e.

Upfront incentives

● The MaPrimeRenov scheme is replacing the older CITE scheme to support upfrontcosts of heat pumps and other renewable energy equipment, with level based onincome and carbon abatement potential. There are a number of bonuses in thescheme – depending on the energy label before and after the renovations arecomplete. The work also benefits from reduced VAT rates18.The total amount offunding obtained through the MaPrimeRénov' scheme may not exceed a maximumthreshold of €20,000 and can be used over 5 years19. Some households will get up to90% of the cost of installation.

● There is also a 0% interest Eco-loan of up to €30,000 for energy-efficient residentialrenovations, including the installation, regulation, or replacement of heating or hotwater systems, including those using renewable energy20.

Regulation

20 Vivid Economics for BEIS, International Comparisons of Heating, Cooling and Heat Decarbonisation Policies,November 2017

19 https://www.connexionfrance.com/French-news/France-boosts-eco-renovation-How-to-benefit

18 https://www.economie.gouv.fr/particuliers/prime-renovation-energetique

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https://www.edf.fr/sites/default/files/contrib/groupe-edf/espaces-dedies/espace-finance-en/financial-information/publications/facts-figures/facts-and-figures-2019.pdf

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● 2012 regulation limits energy consumption for new buildings constructed after 1January 2030.

The Netherlands

The Netherlands faces the challenge of being a highly gas-dependent country which istrying to phase gas out, with the Groningen gas fields due to close in 2022. It has combinedstringent regulations with much greater incentives to move from gas to electricity thanother countries.

Policy costs

● The Netherlands have used their SDE+ to support renewable energy production. Thisis about to be replaced by SDE++, which supports technologies such as carboncapture (emissions removed or avoided, as well as renewable energy). This isreflected in a tariff on gas bills, with an additional €461.62 refund to households forelectricity bills.

Upfront incentives

● A subsidy (ISDE grant) is available for heat pumps. The subsidy varies substantiallybut is typically 20% of the cost21.

Regulation

● A ban on new gas connections in new builds was instituted in 2018. More than 50% ofnew builds now use heat pumps, doubling from 2016.

● Social housing renovation targets have also meant that 2/3 of heat pump retrofitsare into social housing properties.

21 https://debreed.nl/en/financing-form/isde/

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● As of 2020 a new higher energy standard is in place for new builds (“Nearly ZeroEnergy”)22

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https://heatpumpingtechnologies.org/annex46/wp-content/uploads/sites/53/2020/10/hpt-an46-02-06-task-1-counry-report-netherlands.pdf

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The model and options for thegovernmentWe have modelled four core scenarios and compared them with a ‘do nothing’ scenario (ourbaseline). In each case, we have looked at the dual fuel bill for the household with medianand mean consumption, and fuel-poor household between now and 2030, and compared itwith the cost of running a heat pump.

In all four of our scenarios, we moved efficiency costs – the Energy Company Obligation –from both electricity and gas bills onto gas bills alone as a step towards a better balancing ofthe policy costs on electricity and gas. We have also assumed in all scenarios that currentcarbon prices – in the form of ETS and CPS costs – would either remain on electricity or bereplaced by a higher carbon price. We have been conservative in our estimate of heat pumpefficiency23 - if this is higher than modelled the operational savings will increase. More detailson our assumptions and the impact of varying them is given in the appendixes.

In the case of changes to carbon tax and renewable support, we have quantified the impacton government income and expenditure of changes to domestic arrangements. This paperdoes not consider the merit or impact of making equivalent changes to the non-domesticmarket.

The difference in scenarios is then described below.

1. Removing the domestic cost of renewable subsidies off energy bills onto governmentexpenditure, with no additional carbon tax:

● In this scenario, ROCs, FITs, and CfD costs would be paid for through governmentexpenditure. Carbon pricing remains in line with current policy.

● This would be the most straight forward change for households but would alsosignificantly increase government expenditure.

2. Removing the domestic cost of renewable subsidies off energy bills onto governmentexpenditure and introducing an additional carbon tax onto electricity and gas:

23 We have modelled at 233% not 300%.

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● In this scenario, ROCs, FITs, and CfD costs would be paid for through governmentexpenditure. In addition, a carbon tax would be levied across electricity and gas,starting at £54/tCO2e at a consistently increasing rate up to £75/tCO2e in 2030. Givenelectricity is assumed to become increasingly renewable, gas would bear anincreasing proportion of the carbon charge.

● This would be consistent with pricing carbon emissions across the economy - andprovide additional revenue that could be recycled to cover the cost of legacyrenewables payments.

3. Evening out the current policy costs across electricity and gas, and introduce anadditional carbon tax on electricity and gas:

● In this scenario, 50% of the currently anticipated ROCs, FITs, CfD costs would be movedonto gas bills from electricity bills. In addition, a carbon tax would be levied acrosselectricity and gas, at a consistently increasing rate up to £75/tCO2e in 2030.

● This would remove some of the imbalance in how current policy costs are allocated,while not requiring any additional government revenue.

4. Moving the cost of renewable subsidies from electricity to gas, with no additional carbontax.

● In this scenario, all of the currently anticipated ROCs, FITs, CfD costs would be movedonto gas bills from electricity bills. No other changes would be made.

● This would more than correct the correct policy cost imbalance, and deliberatelyencourage consumers to switch away from gas.

These are summarised below.

Scenario Renewable subsidies24 Carbon taxation

24 In the case of renewable support costs (RO, FiT, CfD) we have assumed for simplicity that any change applies tothe entirety of renewable support costs. An alternative policy choice would be to move only the legacy component ofthe costs, rather than new costs. As legacy costs account for the majority of renewable costs to date, however, thiswould not significantly change the modelling results.

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1 Moves from electricity billsto general taxation

Current charges only (andtherefore on electricity,not gas)

2 A higher carbon taxapplied equally toelectricity and gas

3 Spread between gas andelectricity

4 Move onto gas alone Current charges only

Scenarios 2,3, and 4 all achieve the aim of making heat pumps less expensive to run than agas boiler by 2030.

Our principles

We looked at each of the scenarios under the following criteria:

● What incentive does it provide to take up heat pumps?

● What does it mean for fuel bills for the mean and median customer?

● What does it mean for fuel bills for the fuel poor, who may be stuck on gas?

● What does it mean for government revenue and spending?

No solution can optimise across all four. We have summarised below what we think eachscenario means under these criteria.

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Incentive to take up heat pumps in2030

Fuel bills in 2030 compared withbaseline

Government revenue andspending in 2030 compared

with baseline

1. Policy costs ontogeneral taxation

The running cost of heat pumps isnear equalised to gas boilers by2030.

The average fuel bill would decreaseby £168 (-12%) per year for the averageconsumer and by £178 a year for thefuel poor

This would have a significantimpact, increasing governmentnet spending by £5.7 bn

2. Policy costs ontogeneral taxationand an increasedcarbon tax onelectricity and gas

Heat pumps become £159 a yearcheaper to run than a gas boiler

Costs would increase slightly - by £38(+3%) a year for the mean consumersand £40 for the fuel poor

Government net spendingincreases by £0.2 billion.

3. Policy costs evenbetween electricityand gas, with anadditional carbontax on electricityand gas

Heat pumps become £154 a yearcheaper to run than a gas boiler

Dual fuel bills substantially increase –by £234 a year (+17%) by 2030 for theaverage consumer and £248 for thefuel poor

Government net revenueincreases by £5.5 billion.

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4. All policy costsonto gas.

Heat pumps become £200 a yearcheaper to run than a gas boiler

Increases overall bill by £70 (+5%) ayear for the average consumer and£65 a year for the fuel poor

Government revenueunchanged.

The charts below show what this means across the scenarios in 2030.

The two charts below show that all the scenarios reduce the cost of running a heat pumpcompared with current policy, and all but scenario 1) make them cheaper to run in 2030 thangas.

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Equally, all scenarios except 1) increase bills in 2030 for those who stick to gas, although whenpolicy costs are moved to general taxation and a carbon tax is introduced, the impact ondual fuel bills is relatively low (£38 a year, or £3.20 a month). We know from other polling that

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there is a direct relationship between the amount bills go up, and the support for newtaxation on gas bills25.

25 See ZeroC polling, 2020

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In terms of government revenue (but not fuel bills) scenario 3) is by far the most positive(with a concomitant rise on bills), while scenarios 1 and 2 would require some additionalfunding from government.

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The impact on the fuel poor is similar to the average consumer – overall bills are slightlyaffected in scenario 2, somewhat affected in scenario 4, and extremely adversely affected inscenario 3. When we break down the impact by fuel poverty quintile, we again see that thedifferences between scenarios are much more significant than within them

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Appendix A: Core assumptionsAll models that look at the future require assumptions. Crucially, we have tried to structure ourassumptions so that, even if they prove to be out, they do not change the fundamental policychoices we present:

● Energy Consumption. We draw our estimates of mean and median fuel consumptionby household type from National Energy Efficiency Data framework (2018). Forconsumption from fuel poor households, we use data for Low Income Low EnergyEfficiency (LILEE) household from BEIS data for 2019.

● Energy Efficiency. For the purposes of this modelling, we have assumed averageelectricity and gas consumption for each household type remain unchanged -allowing us to focus more on the impact of policy shifts than changes in efficiency. Inthe next Annex, we present some sensitivity analyses of how changes in efficiencywould impact our core results.

● Residential Electricity and Gas Prices. We use the reference scenario estimates fromBEIS’ estimates for Updated energy and emissions projections: 2019. For the purposesof our modelling, we isolate the standing charge and assume this remains constant.

● Cost of renewables. We build on CCC (2017)’s estimates of the cost of renewables andenergy efficiency support running through to 2030, updating the latter for announcedincreases in the energy efficiency budget.

● Carbon Tax. There are obviously a large number of different carbon taxationscenarios the government might eventually choose to pursue, and there could beeither a fluctuating ETS-based price, a fixed carbon price, or both. We have thereforechosen to link our carbon tax to the LSE’s recommended level which reaches£75/tCO2e by 2030. For comparison, Canada’s carbon taxation level is due to reach£100/ tCO2e by 2030. Sweden’s level is already beyond this. Germany will reach£55/tCO2e for gas by 2025, in line with this trajectory.

● VAT. We have not modelled a switch in VAT levels as part of this project and assumedthat VAT remains constant across energy at 5%.

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● Heat pump efficiency. Based on stakeholder discussions with the five establishedenergy companies that commissioned this research, we assume efficiency of 233%

● Carbon intensity. We use LSE (2020) estimates of average carbon intensity forelectricity and gas.

In all four of our scenarios, we moved efficiency costs – the Energy Company Obligation –from both electricity and gas bills onto gas bills alone as a step towards a better balancing ofthe policy costs on electricity and gas. An alternative approach which we have not modelledhere - but which could also be considered in more detailed analysis - would be to move ECOcosts on to general government spending. For simplicity, our modelling assumes no changeto the Warm Home Discount (WHD) scheme but the option of moving these costs either togovernment spending or wholly to gas bills could also be considered in any more detailedanalysis. Given that ECO and WHD costs are much less than renewable support costs26,neither of these changes would substantially affect the overall conclusions.

In the case of renewable support costs (RO, FiT, CfD) we have assumed for simplicity that anychange applies to the entirety of renewable support costs. However, a distinction can bemade between ‘legacy’ renewable support costs under closed early support schemes, wherethe relatively high levels of support for renewables in the early years can be justified on thebasis of driving costs down through innovation/learnings, and ongoing renewable supportcosts (notably more recent CfD support for renewable generation such as offshore wind,subsequent to the FIDeR allocation process) which are now much less significant. Analternative policy choice would be to move only the legacy component of the costs, but sincethis accounts for the majority of renewable costs to date this would not significantly changethe modelling results.

26 We use the term renewable support costs, but other forms of low carbon electricity generation such as nuclearand CCUS are also expected to receive support under these schemes by 2030.

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Appendix B: Sensitivity ChecksEnergy Efficiency

In our central scenario, we hold energy consumption constant to allow us to better focus onthe impact of policy changes. In practice, changes to average energy efficiency are likely tobe as important as changes to policy costs.

If we instead allow average household energy consumption to fall by a more realistic 2% ayear, we see the overall level of bills come down across the board - but the relative story ofthe benefits of our different policies remains largely the same.

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Heat Pump Efficiency

In our central scenario, we use a relatively conservative assumption of average heat pumpefficiency of 233%.

If we instead use a more optimistic assumption of 300%, this significantly reduces the costpenalty a gas boiler household would face switching to an air source heat pump from £305 ayear in 2030 to £95 a year.

Because of this reduced gap, all four scenarios would now see a positive incentive to move toa heat pump. Other than that change, the pattern of relative impacts again tells a similarstory to our central scenario.

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